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27 July 2020

Essential law: Variations - Part two

Continuing our series on the basics of construction law, Sara Cunningham considers some of the issues that can arise when valuing variations under a construction contract.

Variations may give rise to additions or deductions from the contract sum and may also require an adjustment to the completion date, depending on the nature and scale of the variation. The key starting point when valuing a variation is the terms of the relevant construction contract.

How are variations valued?

Generally speaking, there are two approaches to the valuation of variations:

  • Using contractual rates
  • Valuing on a cost basis.

Different standard forms take different approaches. For example, the JCT forms generally seek to value variations using the contractual rates, whereas the NEC forms generally seek to value variations on a cost basis.

Using contractual rates

Valuing variations is most often based on the rates and prices in the contract. For example, the valuation rules in the JCT design and build form provide the following process to value variations:

  • Where work is of a similar character to work in the contract documents, then the valuation shall be consistent with the relevant values in the contract sum analysis.
  • There will be a due allowance for any change in the conditions under which the work is carried out or the quantity of the work, together with an allowance for any addition or omission of design work and for any change to the provision of site administration, site facilities and temporary works.
  • Where the work cannot be valued on the above basis, the valuation can be carried out on a time and resource basis – in other words, a dayworks valuation.
  • In so far as a dayworks valuation cannot be made, a “fair” valuation is to be made.
  • In so far as a variation leads to a substantial change in the conditions under which any other work is executed, that other work shall also be treated as varied and valued in accordance with the above principles.
  • Any effect of the variation on the regular progress of the works is to be ascertained separately under the loss and expense clause.

Valuing on a cost basis

An alternative approach is to value variations on a cost basis.

For example, the NEC contracts do not value variations (one of the compensation events under the NEC forms) by reference to the contract prices. Instead, they are valued by:

  • Assessing the effect of the variation on the defined cost (not actual cost) of the works. This defined cost is assessed by reference to the relevant schedule of cost components, which sets out the items to be included in the defined cost. It is not necessarily the same as the actual cost incurred by the contractor in carrying out the variation.
  • Adding a percentage uplift to that change in defined cost to represent the fee (meaning the contractor’s overheads and profit).

This assessment is to include all the effects of a variation. In other words, there is no separate valuation of loss and expense resulting from any effect on the progress of the works.

Further, the parties can agree to use the contractual prices to value a variation if they consider that more appropriate.

Common issues

There are a number of issues that can arise when valuing variations:

  • Should the valuation always include an allowance for overheads and profit? In Weldon Plant vs Commission for the New Towns (2001), the court considered a contract based on the ICE conditions and whether a fair valuation could be made that excluded an allowance for overheads and profit. The court held that a fair valuation had to establish which overheads were involved in the variation and had to include an element of profit in the absence of special circumstances.
  • What if the contractual rates are too high or too low for the variation? If the contract provides that the variation is to be valued using these rates, this could lead to a windfall for one of the parties. This is one of the reasons the NEC adopts a cost-based valuation for variations – it is intended that no party should unfairly gain as a result of a variation.
  • How should omitted works be valued? This will always depend on the terms of the contract. In MT Højgaard vs E.ON (2017), the court agreed with the contractor’s argument that the omission should be valued by reference to the contribution of the omitted work to the total contract price. It rejected an argument from the employer that the valuation should be based on an estimate of what it would have cost the contractor had it carried out the works as originally planned.

This article was written by Sara Cunningham and was first published in ‘Building’ magazine on 3 June 2020.

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